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The budget battles in Washington, D.C., are far from over. President Obama’s attempt to break the stalemate by reaching across the aisle and dining with GOP members two days in a row seems more about show than substance.

The apparent lack of urgency to undo the cuts underscores what we knew all along: the world did not end under sequestration. Most of the cuts will be phased in over the next few months. The defense cuts amount to just 6.5 percent of total spending on national security (Pentagon base budget plus war costs). This is a pittance, and spending will still dwarf what we spent before 9/11. Those who claim that the cuts will undermine American security should explain how we managed to win the Cold War while spending much less, on average. (To learn more about proposals that would maintain a highly capable, but less costly, military, attend our event on March 14th.)

There is still the possibility that most of this year’s cuts, or the caps on planned spending over the next decade, may not materialize. Congress could reverse the cuts in the future as part of a grand bargain. Or they could simply punt without one. Meanwhile, legislation is moving along that would allow the Pentagon and other agencies to implement the cuts with greater discretion across department programs. This is a good thing, potentially. Smarter cuts are desirable, but we should be on the lookout to ensure that Congress doesn’t simply legislate away any cuts, dumb or otherwise.

Nonetheless, the fact that military spending actually declined is a small victory. But how will future battles play out? Are the neocons and their supporters in retreat? In a piece running today at Foreign Policy,I offer a cautionary note. Just because the fiscal hawks won this time doesn’t mean that they’ll win the next one, or the one after that:

The defense contractors and special interests still have enormous firepower in Washington, and they’ve turned their attention to the “continuing resolution” that will fund the government for the remainder of the year. Meanwhile, the neoconservatives are single-minded and relentless. Their tenacity paid off in their bid to launch a war in Iraq and depose Saddam Hussein, but failed to stop Chuck Hagel’s nomination and eventual confirmation as secretary of defense.

The budget fight matters even more. A $470 billion military is more than sufficient to fight the wars the United States truly needs to fight, but not the wars that the neocons want to fight. The next phase in the fight over the Pentagon’s budget should focus less on how much the United States spends on defense, but rather why it spends so much. If we are going to give our military less than it expected to have three or four years ago, we need to think about asking it to do less.

It is no surprise that the defense contractors want to protect their profits by getting taxpayers to pony up more money. Now they have secured the support of Crossroads GPS in a commercial against Senate candidate and former Virginia governor Tim Kaine. The Crossroads ad follows similarones from Kaine’s challenger, George Allen, and the National Republican Senatorial Committee. All three ads claim that spending cuts under sequestration will result in devastating job losses to the defense industry and Virginia; the Crossroads ad claims 520,000 jobs will be lost. But these estimates are wildly inflated and represent the short-term interests of the defense industry, not the American taxpayer.

In actuality, the cuts, if they occur, will be evenly divided between the Pentagon and the rest of the discretionary budget. They are a very modest share of total federal spending over the next decade, and the assertion that the cuts will lead to massive job losses have been thoroughly refuted here, here, and here. Indeed, there is good reason to believe that such cuts will have beneficial effects over the medium- to long-term, if the savings are returned to taxpayers, and not merely plowed into other federal spending.

All of these pro-GOP ads get the lost jobs number from a study commissioned by the Aerospace Industries Association and authored by George Mason economist Stephen Fuller. Last Friday, the Cato Institute hosted a forum—which included Fuller—that considered the effects of military spending cuts on employment and the economy. We discussed the positive impact that cuts in Pentagon spending can have in the wider economy, and even in a state like Virginia that is more dependent than other states on federal spending. The Wall Street Journal’s Steve Moore argued we should just let sequestration happen (I agree). As the Washington Post reported, Economist Benjamin Zycher summed up the hypocrisy of conservatives claiming the defense budget produces jobs:

“Conservatives . . . are highly dubious about the purported [gross domestic product] and employment benefits of federal domestic spending, as illustrated by the meager effects of the Obama stimulus fiasco,” he said. “There’s no particular reason to believe that defense spending is different.”

I wish that organizations like Crossroads GPS were as committed to saving the taxpayers money as they are to electing Republicans. I’d also like it if they relied on objective facts, not statistics designed to protect the narrow interests of an industry that relies overwhelmingly on taxpayer dollars. We wouldn’t expect Republicans to accept the teachers unions’ claims about job losses from cuts in the Department of Education. Why, then, do they promote these phony numbers by the defense contractors?

On Thursday, Dan Mitchell and I will be discussing this issue—the effects of sequestration—on Capitol Hill. It is not too late to register, but space is limited, so act now.

A few days ago, I wrote about the fight looming between taxpayer advocates and defense contractors over whether Congress should scrap the Budget Control Act (BCA) and allow the Pentagon’s budget to grow. The contractors and their allies, led by the Aerospace Industries Association (AIA), contend that cuts in military spending will have a harmful (some say devastating) impact on the sluggish economy; taxpayers groups point out that the Pentagon’s budget has risen dramatically over the past decade and object to suggestions that we should raise taxes or incur more debt to pay for additional increases.

In my earlier post, I focused on the politics of this fight, here I focus on economics. I’m not convinced—and neither are a number of others—by the AIA’s claims that sequestration will wreck the economy.

For starters, we should keep an eye on the bottom line. If there is no deal to undo the BCA, the Pentagon’s base budget in 2013 will be about the same as in 2007. The budget, in short, is not being gutted, slashed, cut to the bone, etc. (pick your favorite metaphor). In real, inflation-adjusted terms, Pentagon spending will remain near historic highs and well above the spending levels of the 1990s. As for the economic effects of the spending cuts contemplated under sequestration, these are likely to be small because the cuts are tiny relative to the economy as a whole, less than three tenths of 1 percent of GDP per year over the next decade.

Those small cuts are likely, in the big picture, to generate overall benefits. It’s easy to focus exclusively on the companies and individuals hurt by the cuts and forget that the taxed wealth that funded them is being employed elsewhere. Provided that defense-spending cuts allow for lower taxes, people will have more disposable income to spend. If they spend it wisely (and even if they don’t), that will generate new economic activity that will offset the job losses elsewhere.

Of course, regions disproportionately dependent upon military spending are more likely to feel squeezed. Even in these defense-heavy localities, however, the effects of military-spending cuts are likely to be temporary, and the eventual transition of workers out of the defense industry into other fields should have beneficial effects. That goes for areas with sufficient economic activity—especially diversification—to help ease the transition.

That is what we hope will happen. But it is more than just hope; my attitudes toward the economic effects of military spending cuts are also shaped by personal experience, especially a trip that I took to San Diego in the summer of 1997.

I was there to do some research on the missile gap and the presidential election of 1960. John F. Kennedy and Richard Nixon had both campaigned in Southern California, and both alleged that their opponent’s decisions with respect to military spending would drive thousands of people out of work. I located some interesting information at UC-San Diego and San Diego State. The most memorable moment, however, occurred during a visit to General Dynamics’s Convair facility, not far from the San Diego Airport (aka Lindbergh Field).

Consolidated Vultee Aircraft Corporation (Convair) had been a major manufacturer of manned aircraft during World War II and then later moved into the design and manufacture of missiles and rockets. Operated as a division of General Dynamics after the two companies merged in 1954, Convair was one of the largest civilian employers in San Diego for several decades. Convair employment in San Diego peaked at more than fifty thousand in 1961, fell to less than six thousand by 1976 and then spiked again in the 1980s to more than twelve thousand employees. But orders for Convair products collapsed following the collapse of the Soviet Union. By June 1995, GD’s Convair Division counted a mere 1,432 workers in its San Diego facility. When I arrived at the Convair plant, two years later, in June 1997, I found a single construction trailer that served as the office for Convair’s final two employees. As I explained in the epilogue to my book, John F. Kennedy and the Missile Gap, “I witnessed a dying company breathing its last.”

Although it was just one company, one might expect Convair’s demise to have had a devastating ripple effect, given its signal importance to the San Diego economy over the years. It didn’t. Likewise, the other Pentagon cuts of the early 1990s (holding constant for inflation, DoD outlays fell by 29 percent from the peak in 1987 to the trough in 1999) did not do irreparably harm. For example, San Diego’s unemployment rate was the same as the national average in 1996 (5.4 percent), and well below that of the rest of California (7.3 percent) at the time. By 1999, San Diego’s unemployment rate had fallen to just 3.1 percent, more than a full point below the national average (4.2 percent), and more than two points below California state-wide (5.3 percent).

the defense engineers and managers diverted, by the loss of their jobs, into entrepreneurial pursuits … helped the region emerge from the severe economic challenge posed by defense cutbacks at the beginning of the 1990s. Today, San Diego’s economy is growing and contains a more diverse set of industries.

Of course, we will never know if San Diego might have experienced even stronger economic growth in the absence of defense cutbacks in the early 1990s. Nor can we be certain that it will respond to the looming defense drawdown under sequestration as well as it did to the far deeper cuts of the late 1980s and early 1990s. But this one case study shows that even defense-heavy localities can adapt to lower levels of defense spending. At a minimum, the story serves as an important counterpoint to the AIA’s claims of impending doom.

Bloomberg’s Roxana Tiron reports that Congress is nearing a deal to postpone some of the most contentious provisions of last year’s Budget Control Act (BCA) until March 2013, or later. This is good news for the Aerospace Industries Association (AIA), which has been lobbying since late last year to undo at least that portion of the BCA that pertained to the Pentagon’s budget (i.e. that portion that threatens to cut most deeply into its members’ profits).

Although the mechanics of sequestration’s across-the-board cuts are problematic, the scale of the Pentagon build-down would be modest by historical standards. And yet, the mere suggestion that sequestration might actually occur has sent the industry into apoplexy. The AIA’s campaign has included the release of a new report claiming that the BCA cuts could result in over 1 million lost jobs, and warnings that hundreds of thousands of workers would be receiving pink slips just a few days before the November elections.

In short, sequestration is a horror show, a Texas Chainsaw Massacre, and the AIA’s public relations effort is designed to scare the wits out of the audience. “Sequestration,” explains Della Williams, the chief executive of Fort Worth-based Williams-Pyro Inc., “is surgery with a chain saw.”

But just as some people aren’t easily scared by campy slasher flicks, there are still a few people in Washington—especially Grover Norquist, President of Americans for Tax Reform (ATR)—who are cheering for the guy with the chainsaw.

The two sides squared off in separate events last Thursday. At the Bloomberg Government Defense Conference, AIA President Marian Blakey, Reps. Norm Dicks (D-WA) and Randy Forbes (R-VA) and Sens. Carl Levin (D-MI) and John McCain (R-AZ) called for bipartisan compromise on taxes in order to fund further Pentagon spending increases. Judging from the number of times that speakers invoked his name, Norquist posed a greater threat to national security than China or Iran. Levin, in particular, scorned ATR’s famed taxpayers’ pledge, and suggested that it was largely responsible for the impending catastrophe.

Norquist is characteristically unfazed by all this special interest pleading for more money. While Blakey and her congressional friends were attempting to rally the troops and rustle up more money, Norquist was reaffirming his opposition to higher taxes—including the closing of tax loopholes that generate more revenue—at a meeting on Capitol Hill. There is no Pentagon budget escape hatch in ATR’s pledge. If the defense industry wants more, it will have to get it from elsewhere in the budget.

The fight over sequestration, taxes, and the defense budget reveals text book cases of two perennial public policy realities: the politics of concentrated benefits, diffuse costs; and the economics of the seen vs. the unseen.

With respect to the first case, the defense industry, broadly defined, benefits disproportionately from Pentagon spending. And that industry can count many interested parties within its coalition. In addition to the defense companies, including the executives and the shareholders, there are also the workers’ at these firms (often represented by a union). Then there are the mayors and local officials who represent communities that are home to defense firms.

Given what is at stake, it is understandable that all of these groups have amped up their lobbying efforts to fend off sequestration. To take just one example, a single F-35 will cost, on average, nearly $125 million ($112.5 million for the aircraft, plus another $22 million for the engine). Prime contractor Lockheed Martin spent $15 million on lobbying in 2011 and is expected to spend even more this year. Such expenses can easily be justified to investors and shareholders if they are seen as protecting the company’s cash cow.

Individual taxpayers, by contrast, have little incentive to organize, and even less incentive to pool their money to fight against the AIA. The cost of the F-35, spread around to every taxpayer, amounts to about a dollar (if we just count the 122 million people who paid federal income taxes). Generally speaking, people do not scrutinize where every tax dollar goes; indeed, payroll tax withholding causes Americans to ignore what they pay in monthly taxes.

A few groups, including Norquist’s ATR, try to offset this imbalance of interests, and they have been reasonably successful. But Norquist’s pledges would be worthless if voters didn’t agree with him. But many do. In this poll (.pdf), for example, half of all respondents were opposed to having their taxes go up in order to pay for higher Pentagon spending.

The AIA’s other line of attack—the claim that substantial cuts in military spending will have a devastating impact on the economy, resulting in a million or more lost jobs—reveals the age-old broken-window fallacy. The AIA wants people to focus on that which is seen—defense workers who are laid off—and to ignore any consideration of how the economy as a whole will be better off if the resources that had previously gone to building planes and rockets are allocated elsewhere in the economy. These transitions are certainly difficult and painful for the individuals and firms involved, but they can be expected, all other factors being equal, to have salutary aggregate effects, especially over the long term. I’ll have more to say on that point later this week, drawing on my previous study of San Diego in the late 1950s, the early 1990s and the early 2000s.

In the meantime, I encourage you to read a succinct explanation of the broken-window fallacy from Henry Hazlitt’s Economics in One Lesson. And, if you’re really motivated, consider reading a less succinct, but more colorful, discussion of the phenomenon by Hazlitt’s intellectual forefather, the French philosopher Frédéric Bastiat.

The Indianapolis Starrecently profiled local boy makes good (handing out other people’s money) John Fernandez, the ex-Bloomington mayor and Obama fundraiser who now heads up the Economic Development Administration. A reference to an EDA taxpayer handout to a technology park in southern Indiana caught my eye:

Southwestern Indiana got a $6.7 million boost from the EDA last year to create a multi-county technology park to tap into the research related to the Crane Division, Naval Surface Warfare Center in Martin County. At the July groundbreaking for the park, Gov. Mitch Daniels called it a ‘long-awaited development that will serve as an economic catalyst for the region.’

Why would Republican governor Mitch “Red Menace” Daniels want to help the Obama administration score public relations points with Hoosiers? One reason is Daniels’s favorite corporate welfare apparatus, the Indiana Economic Development Corporation, also handed out money from state taxpayers for the technology park.

The Indiana Economic Development Corporation offered WestGate @ Crane Authority, Inc. up to $1 million from the Technology Development Grand Fund as a local match to a U.S. Economic Development Administration grant commitment of $6.6 million.

So what is this technology park that U.S. and Indiana taxpayers are being forced to subsidize?

Qualified as a state Certified Technology Park (CTP) by the Indiana Economic Development Corporation (IEDC), the WestGate @ Crane Technology Park represents a natural marketplace for defense contractors currently providing technical support, and research and development services to the Naval Surface Warfare Center, Crane Division in southern Indiana. Operations of the $2 billion URS corporation, and SAIC, the nation’s 7th largest defense contractor, in addition to ITT, CACI, CSC, CLEC, MLE, Raydar & Associates, Novonics, NAVMAR, Stimulus Engineering and Technical Services Corporation (TSC), already maintain operations in the park.

Great. A high-tech playground for defense contractors—an industry that has enjoyed a taxpayer windfall thanks to Uncle Sam’s ten years of warring on terror.

In a blistering op-ed, Indiana Policy Review editor Craig Ladwig calls Daniels “more of an accountant than an economist, more Beltway than Hoosier” and says that “although he claims to admire the classical liberal philosophy, you strain to see any sign of it in his governing.” As evidence, Ladwig cites Daniels’s record of supporting “crony capitalist ventures.”

Craig is correct, but it’s not just Mitch Daniels. Support in the nation’s statehouses for crony capitalism is ubiquitous. And key enablers of state business subsidies are the numerous federal “economic development” programs—like the Economic Development Administration—that policymakers in Washington use to coddle special interests in the name of “job creation.”

As the Obama-Daniels tag-team demonstrates, corporate welfare is a bipartisan affliction. Indeed, back in February, Rep. Michael Michaud (D-ME) offered an amendment to restore $80 million in funding for the EDA. The amendment passed with 145 votes from Republicans and 160 from Democrats.

Last week, I flayed the American Small Business League’s Lloyd Chapman for his absurd claim that legislation introduced by Sen. Richard Burr (R-NC) would close the Small Business Administration (see here). As I expected, Chapman’s response is equally absurd.

In an ASBL press release, Chapman actually threatens to take me to court over my calling him a “conspiracy theorist”:

The next time you call me a conspiracy theorist, be ready to back it up with facts. You just might find yourself in court.

Good luck with that, Lloyd. In the meantime, let’s allow the court of public opinion to decide if the following claim you recently made is the stuff of a conspiracy theorist:

Clearly Republicans like Senator Burr, his supporters and groups such as the CATO Institute are directed like puppets by the defense and aerospace industry.

I can’t speak for Sen. Burr, but Chapman’s assertion that the Cato Institute is being “directed like puppets by the defense and aerospace industry” is ridiculous. Cato’s Downsizing Government website, which I co-edit, lays out the case for cutting the Department of Defense.

Cato’s foreign policy vision is guided by the idea of our national defense and security strategy being appropriate for a constitutional republic, not an empire. Cato’s foreign policy scholars question the presumption that an interventionist foreign policy enhances the security of Americans in the post-Cold War world, and maintain instead that interventionism has consequences, including the formation of countervailing alliances, the proliferation of weapons of mass destruction, and even terrorism. The use of U.S. military force should be limited to those occasions when the territorial integrity, national sovereignty, or liberty of the United States is at risk.

Does that strike the reader as anything the defense and aerospace industry would direct Cato to advocate? Clearly, Chapman is hopelessly lost in a fantasy world of his own creation.

I am sure that Tad DeHaven and the staff at the CATO Institute have seen my press release in response to their attack on my credibility. I’d like to take this opportunity to try a different approach and appeal to their sense of patriotism, logic and reason.

He then proceeds to talk about all of the jobs that small businesses create and the fact that federal contracts set aside for small businesses sometimes end up instead benefiting large businesses. Uh, Lloyd, in my “attack” on you, I never said otherwise. I even noted that “Chapman is correct that government contracting is fraught with fraud and abuse.” In my testimony on the SBA before the Senate Small Business Committee, I discussed examples of fraud and abuse in government contracting, including federal contracts set aside for small businesses that ended up benefiting large companies like General Electric and Lockheed Martin.

As I noted in my “attack,” Chapman is focused on the contracting issue whereas I’m primarily focused on the SBA’s loan guarantee programs. I frankly don’t care what firms receive federal contracts so long as work is performed at the lowest cost to taxpayers. I’m more concerned with reducing the size and scope of government, which would mean lower taxes and fewer burdensome regulations for small businesses. Moreover, does Chapman not understand that those government contracts are paid for, in part, by other small businesses through taxes? I would argue that the strength of the small business community should be measured by the goods and services produced for private consumption, not government consumption.

Finally, if Chapman is so pro-small business/anti-big business, why isn’t he concerned with the SBA’s loan guarantee programs? I challenged Chapman on this issue:

I’m all for a serious discussion and debate on the SBA. The SBA’s loan guarantee programs benefit a relatively tiny number of small businesses at the expense of the vast majority of small businesses that do not receive government support. Moreover, the biggest winners from these loan guarantees are big banks who reap the profits but get to kick the bulk of any losses to the government. One would think a pro-small business/anti-big business guy like Chapman would be concerned by this. Instead, Chapman consistently resorts to wild exaggerations and conspiracy theories. As a result, I can’t take him seriously. It’s too bad policymakers do.

The silence from Chapman on this matter is deafening. In addition to resorting to wild exaggerations and conspiracy theories, we can now add the threat of legal action. Until Chapman dispenses with the antics, policymakers should stop taking him seriously.